Archive for the ‘Cap and Trade’ Category

Plenty of criticism and analysis has already been directed at Alaska Governor Sarah Palin’s cap-and-trade editorial in the WaPo today (see here, here, and here). Instead of jumping on the bandwagon, I’d like to juxtapose it against an alternative analysis of the American Clean Energy and Security Act (ACES) by my former Congressman Mark Kirk (R-IL), who voted in favor of the bill. I’m not trying to pretend that Sarah Palin and Mark Kirk fall at the exact same point on the political spectrum (nor am I trying to set up some sort of artificial debate between the two of them). Indeed, Kirk represents a moderate suburban Chicago district (although one that would be hard hit by increased taxes on the wealthy), has always been fairly green, and had further political incentives for the “Yes” vote given his upcoming run for statewide office.

However, it’s worth illustrating that while both share the same overarching policy objective—“an ‘all of the above’ energy strategy”—Kirk’s reasoned, experienced, fact-based, forward-looking and still very much conservative analysis led him to a very different place than Palin. My overall message to the Republican Party: please, please listen to the Mark Kirks in Congress when designing your strategy on climate and energy legislation, and not the Sarah Palins.

The Starting Point

Kirk: “For 2009, our top goal should be energy independence. I support exploring for energy off our coasts, expanding nuclear power and building a natural gas pipeline across Canada to lower heating costs in the Midwest…”

Palin: “We must move in a new direction. We are ripe for economic growth and energy independence if we responsibly tap the resources that God created right underfoot on American soil…Our 3,000-mile natural gas pipeline will transport hundreds of trillions of cubic feet of our clean natural gas to hungry markets across America. We can safely drill for U.S. oil offshore…”

Kirk and Palin seem to be agreed to the standard Republican “all of the above” energy strategy, focused on promoting domestic sources of energy and reducing America’s dependence on foreign oil.

The Experience

Kirk: “…the underlying ACES bill would still lower our dependence on foreign oil by diversifying American energy production. It is time to break the boom and bust cycle of high gas prices and the need to deploy three separate armies to the Middle East (Desert Storm, Iraqi Freedom and Enduring Freedom). As you may know, I am a veteran of the Desert Storm and Enduring Freedom missions.” “In 1998 and 1999, I served as part of the U.S. delegation to both the Kyoto and Buenos Aires UN Climate Change conferences. In those years, there was a significant debate about the amount and effect of atmospheric carbon dioxide. I was a skeptic and spent hundreds of hours on the subject of 1990s climate science. In the Congress, our job is to learn as much as possible from the latest peer-reviewed non-partisan scientists and then plot the best course for our nation.”

Palin: Governor of a large, oil producing state (surely there are no perverse incentives there). Well, until she resigned.

You can’t fault Palin for looking out for her constituents, and supporting increased domestic oil and gas production. However, Kirk has seen firsthand the impacts of U.S. dependence on foreign oil when fighting for his country, and extensively studied climate science. Whose experience is more valuable when judging U.S. climate and energy policy options?

The Analysis

Kirk: “The National Academy of Sciences reports that the earth’s average temperature already increased by 1.4°F, from 56.8°F in 1920 to 58.2°F in 2007. NOAA also reports that due to a 30% drop in winter ice covering the Great Lakes since 1972, evaporation may be the cause of Lake Michigan’s declining water level…I am a strong supporter of the non-partisan Congressional Budget Office. When they reported the Democratic health care bill cost $1.6 Trillion, we should take notice and rewrite that bill. That is why I have become one of the leading Republican authors of an alternative health care bill that will be the Congress’s least expensive bill, costing our Treasury very little. I read their report on ACES carefully too. CBO reports that peer-reviewed scientists expect the world’s average temperature to increase by 9 degrees by 2100, lowering U.S. economic output by 3% annually. In sum, they estimated the costs of the bill per household at $140 annually.”

Palin: “The Americans hit hardest will be those already struggling to make ends meet. As the president eloquently puts it, their electricity bills will ‘necessarily skyrocket.’ So much for not raising taxes on anyone making less than $250,000 a year. Even Warren Buffett, an ardent Obama supporter, admitted that under the cap-and-tax scheme, ‘poor people are going to pay a lot more for electricity.’ ”

It’s perfectly reasonable for two intelligent, reasonable people to look at the same study and draw two different conclusions, based on their judgment of the underlying assumptions or methodologies. However, this was not the case here. Here we have a careful review of available non-partisan scientific and economic data specific to this exact piece of legislation versus unsubstantiated statements and generalized quotes. Once again, whose argument is more compelling?

The Conclusion:

Kirk: “In sum, I would have preferred a bill that focused more on energy independence and less on some of the complications in this bill. Nevertheless, the 1990 Clean Air Act signed by President Bush established a cap and trade system to reduce acid rain that proved to be a great low-cost success…In the coming Senate debate, I hope we can repeat this environmental success and aggressively back a national program to defund Iran and Venezuela by reducing America’s need for foreign oil.”

Palin: “Can America produce more of its own energy through strategic investments that protect the environment, revive our economy and secure our nation? Yes, we can. Just not with Barack Obama’s energy cap-and-tax plan.”

Hmmm…somehow there seems to still be a disagreement between Kirk and Palin about the merits of ACES and the direction of America’s climate and energy policy. Based on their experience, evidence and analysis, I wonder whom to believe?

The beauty of writing for two blogs is you get to post the same thing twice and you get double the credit for it, or something like that. This post originally appeared on Weathervane, RFF’s fancy and informative climate blog:

How will the Senate Climate Debate Differ from the House Debate?

By Daniel F. Morris

The climate debate kicked off in the Senate this week with the Obama administration encouraging senators to pass legislation comparable to H.R. 2454, the mammoth bill that passed by a vote of 219-212 last month. In testimony given to the Environment and Public Works Committee, Energy Secretary Steven Chu, Agriculture Secretary Tom Vilsack, Interior Secretary Ken Salazar, and EPA Administrator Lisa Jackson all urged the Senate not to slow the momentum behind the passage of the House bill.

The formation of the Senate bill and the debate surrounding it will be significantly different from the experience in the House. First, a huge component of the Senate strategy will involve wrangling 60 votes to block a potential filibuster, which will probably require more compromises to accommodate Midwestern Democrats who currently feel compelled to oppose the bill. Concessions may involve the stringency of the cap in the early years of a cap-and-trade market (14% reduction of 2005 emissions by 2020 instead of 17%), allowance allocations given away to energy-sensitive industries, especially coal, oil, and manufacturing, and the role of nuclear power in the nation’s future energy portfolio.

Second, the bill will receive much more scrutiny at the committee level than the House bill received. H.R. 2454 was fully marked up only by the Energy and Commerce Committee. Input from other committees, like Ways and Means and Agriculture, were included in a manager’s amendment inserted during floor debate. In contrast, the lead for drawing up the Senate bill will be Sen. Barbara Boxer (D-CA) in the Environment and Public Works Committee, but the legislation will ultimately include pieces constructed by at least five other committees, including, Agriculture, Commerce, Energy and Natural Resources, Finance, and Foreign Relations. Senate Majority Leader Harry Reid (D-NV) has tentatively slated a deadline for the bill to clear the committees of Sept. 28, so September will be a hectic month. Boxer is indicating she wants to wait until after the August recess to take up any climate bill.

Aside from dynamics distinct to the Senate, there are a number of specific issues that may develop disparately from the House debate. Some of the prominent topics are:

Price collar: H.R. 2454 established a minimum carbon price (or price floor) of $10, but did not include a matching maximum price. The strategic reserve auction mechanism (Sec. 726) protects much more against extreme price volatility than consistently high allowance prices. In the interest of protecting regulated industries and reducing overall costs of the entire program, the Senate will likely take a much closer look at employing a price collar that sets both a minimum and maximum price for emissions allowances. Previous studies conducted by RFF scholars, one by Dallas Burtraw and Karen Palmer and another by Harrison Fell and Richard Morgenstern show that use of a price collar can reduce the total costs of implementing a cap-and-trade system.

Competitiveness: President Obama expressed some dismay about the last-minute addition of protectionist language (Sec. 3) included in H.R. 2454 targeting imports from emerging economies that do not take on similar emissions reductions. Language in the bill explicitly names China and India as countries that deserve scrutiny. Those concerned that such language will lead to conflict in future climate negotiations with the two countries see the Senate as the place to scrub the inflammatory verbiage. Foreign Relations Chairman John Kerry (D-MA) has already stated that he and others in the committee intend to make changes in the hopes of avoiding retaliatory measures from India and China. Midwest Senators Carl Levin (D-MI) and Sherrod Brown (D-OH), however, have expressed support for the provisions and disagree with the President’s assessment. The matter will no doubt receive considerable attention from both the Foreign Relations and Finance committees.

Market Regulation: Both chambers want to see stringent regulations for the potentially huge carbon trading markets to come out of cap-and-trade measures. H.R. 2454 split responsibility for oversight between the Commodity Future Trading Commission and the Federal Energy Regulatory Commission. Sen. Dianne Feinstein’s (D-CA) experience with FERC during California’s deregulation woes of the early part of the decade have led to her strong distrust of the agency, and she has introduced a bill giving CFTC full authority for regulating carbon markets. This debate may continue to evolve as the Senate bill begins to take shape.

Agriculture: In the House debate, powerful agriculture concerns found voice in Rep. Collin Peterson (D-MN), who had a major influence over the final version of the bill, including a provision that give authority to the Dept. of Agriculture to determine what constitutes domestic forestry and agriculture offsets. Many farm groups lined up against the House bill after its passage and their influence could spell doom for Senate passage. Agriculture Committee Chairman Tom Harkin (D-IA) has already expressed his dissatisfaction with the House bill and intends to protect agriculture and farmers. Expect agriculture to play an even bigger role in the Senate debate.

Undoubtedly, other issues will surface over the summer as committees begin drafting separate pieces. The Senate has somewhat of a head start in that a major energy provision has already been shepherded through committee by Energy and Natural Resources Chairman Jeff Bingaman (D-NM).

The path to President Obama signing climate and energy legislation is far from clear, however. The Senate bill must navigate skeptical and apprehensive Midwest Senators, substantial efforts from environmental groups to strengthen it, and ardent opposition from many in the Republican minority. Even though the Fourth of July was last weekend, it appears that we can look forward to plenty of fireworks for the rest of the summer.

Consider this new policy idea: The United States Government will tax all domestic carbon emissions between now and 2025 at some relatively small amount, let’s say $10/ton CO2. Then each year it will take this entire sum of money and use it to buy international offsets. If it acts through its development agencies or some sort of iterative bidding process, the government could essentially play a monopsony role in this new market, extracting the rents from offset suppliers and refunneling them back into the program. This would maximize the number of carbon offsets purchased (and therefore tons of CO2 abated) for a given level of domestic carbon taxation. If, on the other hand, there are multiple buyers of offsets (like the EU) or the informational/ bureaucratic deficiencies of the “monopsony-like” arrangement become too costly, the US could simply purchase all offsets at the market clearing price. This would effectively send the rents of the program to the offset suppliers (or some middleman) so that emissions “reductions” would be smaller, but the same amount of money would still be flowing to developing countries.

A tax of $10/ ton would do little to change domestic CO2 consumption, which is around 6 billion tons per year. But it would purchase a lot of international offsets, especially if the government can price discriminate. In EIA’s 2008 analysis of Leiberman-Warner, in 2015, the government purchased over 750 million tons of international offsets at around $21/ton, for a total cost of around $16 billion. Using this point and the origin, we can map a very crude estimate of EIA’s international offsets supply curve. A back of the envelope calculation reveals that the US could purchase over 1.5 billion tons of offsets for $60 billion at the market clearing price, and over 2 billion tons if it can price discriminate. If you believe offsets are real (which is outside the scope of this post), then the US could effectively reduce its carbon footprint by 33% overnight for around $200 per person! Moreover, it would send $60 billion / year in revenue to developing countries, placing them on a cleaner path to development. A 2.3 second Wolfram Alpha search revealed that 2006 US economic aid was around $23 billion.

I’m actually pretty skeptical of international offsets as a compliance mechanism personally but in recent weeks I’ve come to see that Waxman-Markey is really just one big offsets program anyways (as Josh and Danny already pointed out). Congress and the lobbyists involved have become fixated on lowering the carbon price (which EPA now says will be in the $13-17 range for the early part of the program). Yet the only way you get this price without completely gutting the abatement targets is through offsets. The bill allows for up to 2 billion tons of offsets per year, which is more than the total ammount of abatement required under the cap during at least the first decade. Thus, if EIA’s L-W analysis is any indication of what will happen under Waxman-Markey (and I believe it is), the US will continue to chug along during the first decade, with domestic emissions declining by maybe a percent or two. Compliance will come in the form of massive amounts of offsets, which, depending on how its handled, will send large rents overseas at the expense of American taxpayers (as Josh argued yesterday). If this is really what cap-and-trade is going to boil down to anyways, a mandate to purchase international offsets, would it make sense to simply make that an explicit policy? Would this simple policy be more or less easy to sell politically?

Or is this new policy idea so obviously ridiculous/ undesireable that this simple thought experiment makes you question the role of offsets in Waxman-Markey…….

There has been some great discussion on the new Waxman-Markey bill including Danny’s previous post. One aspect of the legislation, however, that I don’t think has received enough attention is how offsets affect low income Americans.

First it is important to realize how large of a part offsets play in Waxman-Markey. For a quick refresher on their role, check out Danny’s post on the subject. Besides their large and increasing percentage of abatement, offsets are a huge factor in allowance price. Here are a few quotes on the importance of offsets from the EIA analysis of the Waxman-Markey draft.

“Without international offsets, the allowance price would increase 96 percent.”

“Without the use of international offsets, covered sectors are forced to find an additional 39 billion metric tons of abatement.”

So, offsets have a HUGE impact on how the program functions. Just how huge? Check out this graph from the EPA analysis.

Looking at the highlighted statistics, you can see that the 1,677 international offsets dwarfs the 408 domestic abatement in 2015. Also, this equates to $4 billion being spent on domestic covered abatement, while $17 billion is spent on international offsets. (The story balances out a bit looking into the future, but it still leaves us spending 50% of abatement costs abroad in 2030.)

Getting back to the original question of how offsets harm low income families, it is important to remember that climate policy is regressive. One way to remedy this is to redistribute some of the money raised by selling allowances. International offsets, however, don’t allow this to happen. The EPA analysis says:

“International offset payments are calculated for each model as the product of the amount of international credits purchased and the international credit price. Unlike the abatement costs associated with domestic covered abatement and domestic offsets, … international offsets .. are all purchased at the full price of international allowances and those payments are sent abroad.”

So, basically purchasing international offsets is equivalent to shipping money overseas. For example, if the cheapest international offset in Mexico costs $4/ton to offset, U.S. firms still have to buy it for the international offset allowance price of $10/ton. The remaining $6 (called the rent) will flow to international firms. If this abatement or offset was done in the U.S., either the government or U.S. firms would be able to capture this rent. These captured rents could then be redistributed to low income U.S. households bearing the brunt of climate policy. With international offsets, this money is lost abroad.

I understand that offsets are being relied upon heavily for cost containment, but why hasn’t the idea of rents being shipped overseas showed up in the political debate? Considering the average American doesn’t know what cap-and-trade is, this might be an effective way to sway public support towards a more effective system.

Unfortunately, in the current political climate, offsets will continue to be a significant part of climate policy. Offsets can have many positive components, but they also have a direct harmful effect on low income Americans. If this is the pill we have to swallow for climate policy to pass, then so be it. However, I would at the very least like to see this important trade off enter the discussion.

The reviews are in and things are…bearable. I was hoping the brand spanking new Waxman-Markey (now w/ substitute amendments!) would be like a Star Trek, but it looks like instead we got a Soloist. The enviro-blogs from Grist to the Rommtrack are voicing their qualified, lukewarm support for the bill, essentially saying a bill that half sucks is better than no bill at all. Even the mighty Paul Krugman is willing to look past the the obvious flaws, saying

The legislation now on the table isn’t the bill we’d ideally want, but it’s the bill we can get — and it’s vastly better than no bill at all…

…opponents of the proposed legislation have to ask themselves whether they’re making the perfect the enemy of the good. I think they are.

After all the years of denial, after all the years of inaction, we finally have a chance to do something major about climate change. Waxman-Markey is imperfect, it’s disappointing in some respects, but it’s action we can take now. And the planet won’t wait.

You can’t make everyone happy, though. Greenpeace and friends expressed their disappointment in the bill before they even had a chance to read it. And we won’t even start on the Republicans, who have around 450 amendments they want to tack on to the bill.

Generally, I agree with Krugman et al. that it’s not the best bill, but it will do. The most important thing about a climate change bill is that it puts a price on carbon. This bill will do that. Awesome. Now, if it requires firms make up their reduced evil quotient by drowning a puppy for every ton of avoided carbon emissions, then I won’t be stoked on the idea. But it doesn’t do that (from what I’ve read so far). It sets a limit on the amount of emissions the US can generate every year, starting in 2012. That’s pretty cool.

Does it suck that it allocation will not be 100% auctions from Day 1? Yes, but if you really thought this thing was going to make it through committee with anything close to that, then you must have a sunnier outlook on the world in general than I. On the aggregate, I’d rather give away emissions credits to polluting industries for a few years than let them continue polluting with no restrictions. We’re trying to moving the marginal private cost curve toward the marginal social cost curve, and that will require a little give and take, especially when you’re dealing with Blue Dog Texas Democrats with oil refineries in their home districts.

One part of the bill that holds a lot potential (both good and bad) is the section about offsets. Again, as we’ve discussed ad nauseum, their is a lot of controversy surrounding them. If they prove to be legit, then they can be a boon for both industry and the environment. If not, then we’ll throw a lot of money down a hole potentially bigger than the TARP.

The biggest factor in determining which one we’ll have on our hands is international offsets. The Rommtrack says in his post that he’s a big believer in domestic offsets and the systems set up in the bill will help make them robust. He’s probably right, but that doesn’t mean firms will buy them. The EPA analysis of the first version of Waxman-Markey says even if you exclude international offsets, the market volume never reaches the $1 billion limit, and it definitely won’t if there are plenty of cheap and delicious offset credits floating around in the forests of Brazil and Indonesia.

Regardless, they are an important part of an important bill that could be a lot better in a lot a of ways. You may disagree with me, but can we at least say something is better than nothing. Is that a good compromise?

From Martin Feldstein, last Thursday. First, he justifies the seemingly time-inconsistent notion that we shouldn’t cap carbon in 2012 because we’re in a recession now:

Even if the proposed tax increases are not scheduled to take effect until 2011, households will recognize the permanent reduction in their future incomes and will reduce current spending accordingly.

Ok, I’m not really sure how much I believe that a <1% increase in prices 4 years out influences current consumption, but its a pretty common economic assumption. Yet in the next paragraph, Feldstein seems to forget his own forward looking assumption:

Official budget calculations disguise the resulting fiscal drag by treating Mr. Obama’s proposal to cancel the 2011 income tax increases for taxpayers with incomes below $250,000 as if they are real tax cuts….But those are false tax cuts in which no one’s tax bill actually declines.

So apparently people immediately incorporate the impact of proposed future tax increases into current consumption decisions, but then fail to reevaluate their budgets when previously incorporated projected tax increases are removed. Got that?

Clearly I’m not doing a very good job of quitting CT. That’s because there’s too much insanity going on in DC these days and, honestly, I need to vent. Today I’m particularly riled up by this report from the WSJ on the “cap and haggling” going on behind the scenes of the Waxman-Markey bill.

By all accounts, load based allocation (LBA), which is the free assignment of carbon permits to electricity ratepayers, has emerged at the most likely winner of the permit allocation sweepstakes. Both US-CAP and EEI support allocating 40% of permits to ratepayers, and from the looks of the WSJ report, Congress is falling in line. And you know what? LBA is fine. Sure it goes against the full auction Obama pledged repeatedly during his campaign, but this is politics, and compromises must be made to get things done. However, we should understand the implications of this decision:

1) LBA is a subsidy to electricity consumption. It will reduce the price impact felt by electricity consumers (relative to 100% auction), but INCREASE the price impact everywhere else in the economy. That means you, drivers.

2) One thing to keep your eye on is just how these permits will be allocated to ratepayers. There are three possible determinants: per capita, per unit consumption, or per emissions, with combinations also possible. And which dimension we choose to allocate along dramatically affects the outcome for a given region. California has lots of people and few emissions – ei it does really well along one dimension and really poorly along another. Politically, LBA is also being billed as a way to compensate coal dependent regions. That means emissions is looking like the front runner here, which is the least efficient allocation scheme possible. As I’ve written before, when you consider all of the work eco-friendly states have done over the past 20 years, this seems like a pretty effed up definition of equitable allocation.

3) 40% is a lot of permits to give away for free and 10 years is a long friggin time. Even though electricity accounts for 40% of current emissions, the electric power sector is supposed to account for the bulk of emissions reductions in the early years of a climate program. Either we don’t want the electricity sector to do any work (then who will?) or we feel the need to lavishly compensate them for doing so.

So, in sum, who benefits? From a political-realist perspective it clearly says something that electric utilities are lobbying for LBA. And as I described in point 2, any allocation scheme within LBA is going to benefit some states more than others. There’s no free lunch, and somebody is clearly getting pwn3d here.

Yet this is DC, and we only like our policies if they promise that 2+2 can be greater than 4. In that same article compensation is also promised for cement and steel producers and low income families. At the end Nancy Pelosi is quoted as saying: “There should be no cost to the consumer”. Keep telling yourself that, Madame Speaker.

Couldn’t resist logging on one last time to point out the difference between good and bad climate policy journalism. First the bad, from yesterday’s WaPo. Go read it yourself then come back.

Ok, I count at least three things that are obviously wrong here:

1. Why should “environmentalists” care about allocation? The level of the cap determines the level of emissions, regardless of how the value is allocated.

2. Duke says it needs some time to install “emission controls”? Umm I’d like to know what these CO2 controlling installations are.

3. Duke says that a gradual transition to 100% auctions will allow us to cut carbon without “raising electricity costs too high”. But that slack has to be picked up elsewhere, at the cost of economic efficiency (ie higher costs).

Actually in my farewell post I forgot to acknowlege other blogs that I stole borrowed heavily from at CT. If I could only read two blogs each day they would be Environmental Econ and Environmental Capital. Anyone who gets their environmental news from the WaPo is an.. … just kidding ;)

Reading this article I couldn’t help but think of Daniel Day-Lewis’ outstanding performance as the oil tycoon Daniel Plainview in There Will be Blood. There’s this liquid substance under your property, and we’re going to pay you just for the right to drill and take it out for you. You won’t even have to lift a finger! Or, in 2009:

“There’s an odorless, colorless gas that is sucked out of the air by your trees, and somebody’s going to pay you for that.”

I don’t want to be overly cynical (although it does seem to be a theme of this blog), but when most Washingtonians or New Yorkers read about people like Justin Maxson who are using market mechanisms to promote sustainable forestry (and that’s what we’re all about here on CT), the only green they can think of isn’t the kind growing on trees.

Continuing on Danny’s and Josh’s week o’ offsets, I think stories like this (and the issue of offsets in general) really illustrate the difficulty many “environmentalists” still have in using “economics” to achieve their goals. Is it morally wrong to support something that will do a lot of good but that people are only interested in because they can make money? Many climate activist-types I know are seriously angry with the huge amount of offsets in Waxman-Markey. Shouldn’t they be happy because more reductions will be achieved at a lower total cost? Or is that not really the goal here? Do we really want to cause the power companies some pain and make them take clean energy more seriously? But, you say, those costs will just get passed on to the consumer anyway…and on it goes.

Hey, did you know that this week is International Offset Week? Oh you didn’t? Well, that’s probably because it’s not, but with all the posts about it here on CT the past couple days it might as well be. In my world, it’s been 648 pages of climate legislation week. One of the big issues I’ve mentioned in previous posts was how the Waxman-Markey bill would treat offsets. Turns out, it luuuuuuuvvvvvvvvvvvvvsssss them. As Andrew pointed out yesterday, a lot of this legislation came straight from recommendations from the US CAP, and they loaded it up with as many offsets as they could find. Seriously. You should go out and horde lodgepole pine seeds and move on top of a covered landfill, because you could potentially be sitting on a gold mine in a few years. How many offset credits will be in a future carbon market? I’ve crafted a handy-dandy (updated!) table below to show you:

Year

Emissions (mmt)

Offsets (%)

Emissions offset (mmt)

Actual offsets (mmt)

2012

4,770

30

1431.00

1788.75

2013

4,666

30

1378.43

1723.04

2014

5,058

30

1517.55

1896.94

2015

4,942

28

1400.40

1750.50

2016

5,391

29

1553.15

1941.44

2017

5,261

27

1423.62

1779.53

2018

5,132

28

1413.58

1766.97

2019

5,002

28

1402.69

1753.37

2020

4,873

29

1391.89

1739.86

2021

4,739

29

1379.02

1723.77

2022

4,605

30

1366.67

1708.34

2023

4,471

30

1353.82

1692.28

2024

4,337

31

1340.44

1675.55

2025

4,203

32

1326.50

1658.12

2026

4,069

32

1311.95

1639.93

2027

3,935

33

1296.75

1620.94

2028

3,801

34

1280.88

1601.10

2029

3,667

34

1264.26

1580.33

2030

3,533

35

1246.87

1558.58

2031

3,408

36

1231.88

1539.85

2032

3,283

37

1214.13

1517.66

2033

3,158

38

1195.53

1494.42

2034

3,033

39

1176.04

1470.05

2035

2,908

40

1155.57

1444.47

2036

2,784

41

1134.47

1418.09

2037

2,659

42

1111.62

1389.53

2038

2,534

43

1087.79

1359.73

2039

2,409

44

1062.64

1328.30

2040

2,284

45

1036.06

1295.08

2041

2,159

47

1007.94

1259.92

2042

2,034

48

978.12

1222.65

2043

1,910

50

946.95

1183.69

2044

1,785

51

913.04

1141.30

2045

1,660

53

877.15

1096.43

2046

1,535

55

838.80

1048.50

2047

1,410

57

797.74

997.17

2048

1,285

59

753.67

942.08

2049

1,160

61

706.24

882.80

2050

1,035

63

655.06

818.83

For those of you not in the know, mmt = million metric tons.

In the major proposed legislation of the 110th Congress, few of them were willing to give offsets more than 30-35% of the total cap. As you can see, Waxman-Markey blows them out of the water, allowing 30% of the total cap to be achieved through offsets in the 1st few years before eventually increasing to 63% by 2050. That’s a lot of offsets. The first question I have is: are there enough offsets out there that are reputable enough to be included in a market starting in 2012? I’m pretty sure there are not, and ClimateWire tells me that a report by Point Carbon (sub req’d) has found essentially the same thing. So let’s see, you not only give emitters an easy out for emissions reductions, but also make it a substantial portion of the entire market, generating lots of demand for a product that is in short (and potentially questionable) supply. I’m not entirely sure how to describe your eventual outcome, but i think it might rhyme with mustard-duck.

Update: A little bit more on how the offset totals are calculated. The cap for offsets in any year is 2 billion tons. The legislation states that the way to determine the applicable percentage of offsets in any year’s market is to take 2 billion, divide it by 2 billion plus the emissions cap for the last trading year, then multiply that by 100 to get your percentage. BUT, remember that 1.25 offset credit = 1 emission credit, meaning your actual avoided/reduced emissions is 80% of the offsets in the market. I’ve updated the table above to illustrate things a bit further.

Later Update: After re-reading the bill itself, and looking at some other analyses, I realized I misinterpreted how the bill treats offset credits and emissions credits. I thought 2 billion was the absolute cap for offsets and actual emissions reductions would be 80% of that due to the 1.25 = 1 conversion rate in the bill. Now I think that that is the cap for credited emissions, which means the actual amount of capped offsets could go as high as 2.5 billion (125% of 2 billion). The table has been corrected again. I humbly throw myself at the feet of the readership and beg forgiveness. Can we make up? It pains me to think some of you might go to bed angry with me.

For all you wonky folks out there who get excited about such things, tomorrow appears to be the day when Chairman Henry Waxman is going to drop his much-anticipated cap-and-trade bill. While there have been a few climate bills released in the 111th Congress (including a carbon tax bill from CT Rep. John Larson), this one is probably going to dominate legislation discussions much like Lieberman-Warner did last session, and has already begun to define the debate in the Senate. Originally, Senate Majority Leader Harry Reid said he wanted separate bills to address energy and cap-and-trade, but changed his mind after some hardcore lobbying from Waxman. What does that mean? It means you can expect a big, hulking bill that will spawn spectacular histrionics from Republicans and the Wall Street Journal about how the country will suffer under the boots of the government’s carbon fascism. There will be plenty to talk about over the next few weeks and months, but here’s a quick list of some things to keep your eyes on (for a more complete and eloquent review, check out Daniel Hall’s RFF swan song):

Allocation: Sorry industry, but auctions are going to definitely going to be a part of this bill. The question is how many many credits are going to be on the block. Lieberman-Warner started over auctioning around 27%, then gradually increased up to 70%. President Obama, however, has said he wants a 100% auction and planned for a lot of revenue in his budget ($646 billion over 10 yrs, which even in our post-TARP world, is not a trifling amount). Since the House is not restrained by to passing bills with a super-majority, expect some aggressive auctionable credits totals.

Incidence: Incidence is a fancy economic word that means ‘how much are people going to have to pay.’ Whatever revenue is generated by a credit auction is going to be tugged at by approximately 301,345,892 different interests, and not everyone will get what they want. Congress members are definitely going to fight to ensure their favorite hometown industries don’t take a big hit, but they also need to worry about their constituents as well. No one is going to want to enter the 2010 elections saying they voted to put a price on carbon without being able to also say how they plan to put money back in people’s pockets. How the bill divvies out auction revenues could become a critical argument point and may provide a lot of ammo for opposition to climate legislation.

Cost containment: Last I checked, markets and prices can be volatile. Carbon price volatility seems to frighten industries, which in turn frightens legislators. A smooth price path, especially one that doesn’t go too high, is what emitters want. There are reasonable and unreasonable ways to deal with this issue. For a potentially disastrous solution, look at H.R. 1666, which sets up a Climate Oversight and Coordination Board in the Treasury Department that would set carbon prices for the first ten years of a cap-and-trade market. If Congress gets too cute and clever with their solutions, it could seriously muck things up.

Offsets: Industry loves them because they are cheap and easy. Environmentalists like them because they can protect forests and lead to restoration. Does Congress believe they have a role? Some legislators seem pretty skeptical, but 21 reps sent a letter to Waxman last Friday asking him to include offsets in the bill.

There are obviously many more issues I’ve left out that will crop up over the next little while, but I think these ones will be some of the most contentious/infuriating/amusing. It feels a little bit like Christmas Eve, and yes, I am fully aware of how nerdy of a statement that is. Don’t kill my excitement. That would be like telling me there’s no Santa Claus.

Relative prices, lump sum transfers and Carbon Cap and Trade

How would rebating carbon revenue to taxpayers give anyone incentive to reduce emissions?

Since Dave is such a fan of economics (and me in particular), I thought I would take a shot at explaining this one (given my past sarcasm, I know that might sound condescending. No condescension is implied. This is an interesting and important question and something to which I think economists can add valuable insight).

The short answer to that question is ‘it depends.’ I know, I know, that sounds like a cop out, but really the truth here is that the effect of revenue redistribution on carbon emissions depends on the form of the rebate.

The proposal to which the question refers is the President’s proposal for carbon cap and trade with full auctioning of permit and rebate of auction revenues either in the form of a lump sum transfer to taxpayers or lower employment taxes. So effectively, the program would increase the relative price of carbon intensive products and then give additional income to everyone. But, by giving the income back to people who buy carbon intensive products won’t that counter the effect of the price increase?

Or, as Dave puts it:

It’s like if we put a $5 monthly tax on NetFlix use, and then sent every NetFlix customer a $5 check each month. Who would ever rent any fewer movies? It looks like you’re just moving money around to no end. Can someone explain what I’m missing?

To answer the questions:

Who would ever rent any fewer movies? No one under this scenario.

Can someone explain what I’m missing? Blockbuster.

Not to be too flip about it, but what’s missing in the NetFlix example are the other goods for which prices didn’t increase thereby making them relatively cheaper than NetFlix.

Back to carbon.

The carbon price (through cap and trade or tax or whatever) will increase the price of carbon intensive products relative to less carbon intensive products. Without the tax rebate, the effect is unambiguous, consumption of carbon intensive products will decrease (and emissions will decrease). But what happens if we add in the effect of the tax rebate?

This is where ‘it depends.’

For the tax rebate to not mess things up, the rebate can’t be proportional to the amount of tax paid. In other words, the rebate has to be designed in such a way that the amount of additional income you get is independent of the amount of carbon intensive products you consume. This is what economists refer to as a lump sum transfer. The easiest example would be to take the auction revenue and divide it by the number of people in the U.S. and everyone gets $Total Revenue/Number of people (like the original $1,200 stimulus checks last summer).

Since the amount of money you get is not tied to the amount of carbon intensive products you consume, the rebate won’t affect the relative choice of carbon versus non-carbon intensive products. Since carbon intensive products are relatively more expensive, they are less attractive than they were before and people will substitute away from them, independent of the rebate.

But, you ask astutely, since people have more income won’t the demand for all normal products increase–normal in the sense that they are desirable?

Yes. We call this the income effect. But, it is very unlikely (verging on absurdly impossible) that the income effect will come close to countering the full substitution effect.

Think of it this way. When the price of carbon intensive products goes up, you are made worse off. You lose something –satisfaction, happiness, utility whatever. Suppose the government were able to design the rebate in such a way that you receive the exact amount of income necessary to make you just as happy as you were before the price of carbon intensive products increased. What would you do? Keep in mind that you now have enough money to make you just as happy as you were before, but carbon intensive products are relatively more expensive because of the cap and trade.

Unless you are really screwed up, you would adjust their basket of consumed goods so that it includes more of the relatively cheaper goods. Even with the income effect, the change in relative prices will cause reduced emissions.

So why doesn’t the NetFlix example work? Two reasons: 1) the tax rebate is tied to buying movies from NetFlix and 2) Substitutes whose prices aren’t changing were assumed away. Put an untaxed Blockbuster in the picture and people will take the $5 NetFlix rebate and rent movies from Blockbuster.

At risk of inviting another WSJ hissy fit, one more word on the regional incidence of cap and trade. The data that the editors used in their initial editorial, and which I subsequently took issue with, came from the World Resources Institute. Now WRI has weighed in on the matter, and here’s what they have to say:

In arguing against cap-and-trade policies, opponents often try to have their cake and eat it too, using contradictory logic and selective use of statistics to make their case. Take the latest op-ed from the Wall Street Journal, which basically argues that cap-and-trade policies are inevitably regressive.

The WSJ starts off with a fairly standard observation:

Once the government creates a scarce new commodity – in this case the right to emit carbon – and then mandates that businesses buy it, the costs would inevitably be passed on to all consumers in the form of higher prices.

Okay, that’s economics 101. But then comes this observation and chart (using WRI data), which suggests that some states will benefit at the expense of others:

California is the No. 2 carbon emitter in the country but also has a large economy and population. So the average Californian only had a carbon footprint of about 12 tons of CO2-equivalent in 2005. The situation is very different in Wyoming and North Dakota—paging Senators Mike Enzi and Kent Conrad—where every person was responsible for 154 and 95 tons, respectively.

This is where the Journal starts cherry-picking the data. While many factors can explain a state’s relatively high or low per-capita emissions, one of the most significant ones is electricity exports between states. In particular, Wyoming, North Dakota and West Virginia are huge electricity producers that export at least 60% of their electricity to neighboring states. On the other side, New Jersey, California, and Florida are huge importers: 41%, 38% and 20% respectively. But emissions are “charged” in the states where the fuel is consumed, which means states that produce more electricity than they use have disproportionately high emissions—especially in per-capita terms.

In other words, the chart in many ways reflects production rather than consumption. And as the Journal points out, production costs would “inevitably be passed on to all consumers.” Owing to inter-state trade (especially for electricity), that means that all states—rich and poor—will share the burden of a cap on carbon.

There will no doubt be regional differences in the economic impacts of cap-and-trade. That’s why nearly every cap-and-trade proposal includes some form of cost mitigation, either directly to taxpayers (such as “cap-and-rebate”) or to “end-use energy consumers” (as in the US-CAP proposal). But to suggest that a few states will bear the lion’s share of the burden while other states benefit is disingenuous and deeply misleading. The Journal can and should do better.

And they didn’t even call the newspaper an idiot*.

* Note: Anyone who read my post would see (I think) that I wrote the WSJ is an idiot** for refusing to publish my letter, not for their initial confusion about carbon emissions from production.

Who Pays for Cap and Trade? — II

We don’t mind an intellectual fight, and in a nearby letter, two economists at Resources for the Future take aim at our Monday editorial on how the costs of cap and trade will be distributed across regions and income groups. Dallas Burtraw and Richard Sweeney call it “a bait-and-switch argument.” Mr. Sweeney added on his blog that “The Wall Street Journal is an idiot.”

That’s how the global-warming clerisy debates these days, but we’ll try to take their argument seriously. They claim that by citing state-level CO2 production data, rather than CO2 consumption data, we exaggerated regional differences. This is distortion disguised as verisimilitude.

It’s true that discrepancies in per capita emissions — 73 tons in West Virginia versus 12 tons in Rhode Island, for instance — reflect the fact that carbon-heavy power plants and industries are based in some states and not others. It’s also true that electricity crosses state lines, and that — as cap and trade raises prices — a consumer in California who buys a car built in Michigan, say, will bear some of its carbon costs.

However, one reason we didn’t mention per capita consumption figures is that, strictly speaking, they don’t exist. The economic literature on the incidence of cap and trade extrapolates carbon consumption by region from the government’s Consumer Expenditure Survey. But nearly every human activity has some carbon cost associated with it. Consider the emissions of “consuming” french fries at a fast food restaurant:

There’s CO2 in fertilizing and harvesting the potatoes; processing, freezing, then transporting them; and still more when they’re cooked. Now multiply that by the entire economy. One danger of a carbon tax — especially if it is poorly designed — is it that its costs will ripple throughout complex energy chains in ways that economic modeling can’t quantify.

Still, in the spirit of comity, we’ll mention the work of Messrs. Burtraw and Sweeney, who wrote a 2008 paper finding that cap and trade disproportionately hits the poorest households and that those effects are exacerbated in some regions over others. That was our argument too.

Of course, ultimately the incidence of a carbon tax depends on how the revenues it takes from the public are redistributed back to the public. Yet Congress, being Congress, is incapable of designing even a marginally efficient system — and given environmental politics and state carbon realities, the losers will be concentrated in noncoastal regions that rely most on coal and manufacturing.

And therein lies the value of emissions production data. Not only does cap and trade tax at the point of production (even if some of those costs are ultimately borne by consumers elsewhere), but it also shifts economic activity away from those industries. The states that produce the most emissions are going to see the strongest ancillary declines in income and increases in unemployment. The top carbon states — in absolute, not per capita, emissions — include Ohio (No. 3), Pennsylvania (No. 4), Indiana (No. 7) and Michigan (No. 9).

What really drives cap-and-trade idolaters like Messrs. Burtraw and Sweeney to schoolboy taunts is their fear that the American people might figure this out. Then their dreams of having government command a huge new chunk of the economy might collapse.

What’s ironic is that if the WSJ had simply read our paper in the first place, they’d probably have run their initial post anyways, as we find that there are regional differences in the the initial incidence of pricing carbon (just not not the 154 to 12 spread the editors implied). However, as Dallas testified yesterday, the real name of the game is what you do with the money. A lot of these regional and income level effects could be countered with careful revenue reallocation. Now the question is whether the WSJ really cares about the true net effect of carbon policy on households in states like Michigan and Pennsylvannia, or if they’re simply clinging to any story that will allow them to politically undermine cap and trade.

I’m super busy today, helping Dallas prepare to testify before Ways and Means tomorrow. So rather than rush a post I want to ask yall a question.

Two days ago I wrote that consumers in some states will experience larger price increases than others after we cap carbon. While carbon consumption doesn’t vary much across states compared to the variation in carbon from production, there is variation nonetheless, and states where per capita consumption is relatively small will experience a smaller energy price increase than states with larger per capita consumption. However, much of the difference in carbon consumption is the result of previous state level initiatives, which consumers have already paid for. The extreme example is California, which has been consistently investing in energy efficiency and renewable energy for decades. Californian’s paid comparatively higher prices for these investments in the past, but as a result they’re energy bills will be relatively less effected by a cap on carbon emissions. Recently many other states have followed suit, most notably through state RPS and regional carbon policies.

If we just look at current carbon consumption patterns and calculate the implied energy increases expected from pricing carbon, California looks like its not bearing its fair share of the burden. But hasn’t California earned its easy pass by preparing for this day of reckoning over the past two decades?

I’m not saying that the discrepency in burden is 100% justified, as different regions have different energy resources available (and the west has a lot). But there’s clearly been a lot of moral hazard involved as well. Anyone who built a coal plant in the past ten years should have factored in considerable regulatory risk. To the extent that that they didn’t, should more prudent investors be penalized?

Yesterday I wrote about an egregious mistake made by the WSJ editorial page. While the error, confusing the carbon footprint of production with the carbon footprint of consumption, is substantial, it is a fairly nuanced subject. I talked with Evan and others about it and most people just assumed that some intern grabbed a chart of the WRI web page without really thinking about it. While the data were misleading, I didn’t really think the deception was intentional.

Which is why Dallas and I wrote a simple letter to the editor, explaining the nature of the mistake. Here’s what we sent:

In the Journal’s March 9 editorial “Who Pays for Cap and Trade?” the editors offer readers a bait-and-switch argument to assert that carbon cap-and-trade regimes would take from “working class” America and give to “affluent” citizens.

The editorial correctly notes that the cost of the cap would be borne mainly by consumers, not producers. It then includes a chart showing a large disparity in per capita emissions between states. But it fails to point out that the data relates to economic production, not consumption. This is a big mistake. Every household in Wyoming would have to pilot a private jet to reach carbon consumption of 154.4 tons. The truth is that while there is some variation in the carbon intensity of consumption across states, it is orders of magnitude smaller than what the editorial claims – thus severely overstating the degree to which cap and trade will burden some states and benefit others.

Our communications department was also in contact with the editorial desk.

Then an hour ago we were informed that the Journal would not be running our letter. Apparently the editors either disagreed with our comment or simply did not think the mistake was important enough to alert the readers. I’m not sure which is worse.

Sean Casten explains that “carbon pricing does not necessarily cause higher energy prices” because………. well because it just doesn’t. While I’m fine with his point that we shouldn’t assume that pricing carbon will lead to higher prices (just as I think we shouldn’t assume green jobs = net jobs), he provides no evidence for his assertion, and ignores the significant literature available showing that precisely the opposite is true (EIA’s L-W runs are an example). This is because carbon intensive energy generation is currently significantly cheaper than clean energy generation, and because our current, stranded, capital is built around dirty energy. Even if you transfer all the carbon revenue to clean technologies, it still won’t compensate for these losses, at least in the short run. Here at RFF I help maintain a highly parametrized US electricity market model which incorporates the two additional costs I mentioned. If anyone has an idea how to design a carbon policy that won’t raise electricity prices I would honestly love to hear it.

Finally, before Jigga Romm’s anti-econ crusaders jump on this post, I’d like to reiterate that my criticism of Casten’s argument (?) does not mean that I am against pricing carbon. In fact I wan’t to do so precisely because it will raise energy prices, which are artificially low right now since they don’t incorporate emissions externalities.

Over on Env Econ Tim lays out the Habb Haab Climate Security Act of 2009. It basically involves auctioning 10% of allowances in year one, and then increasing this by 10% per year until we have 100% auctioning. The remaining permits will be given away to polluters so that they have “time to adjust”. While this would have been a pragmatic compromise as recent as 12 months ago, today I’d say its a non-starter. Polluters totally dropped the ball on this one, preffering the to play hardball rather than getting in early when they could have essentially written the bill themselves. Now that ship has sailed.

Under President Obama I really can’t see more than 25% of permits being given away for free initially, with a much quicker phaseout. BO repeatedly emphasised his support for 100% auctions during the campaign. And this position wasn’t simply some calculated play for votes. Unlike almost every other politician in Congress, Obama grasped the fiscal opportunities of carbon revenue very early on. At a time when Senator McCain was touting cap and trade because it could be implemented without a big check going to the federal government, Obama started talking about killing two birds with one stone: we could address climate change and raise money for other programs.

Then this week President Obama came out and said that he would halve the federal deficit. This surprised many, as he’s also stated ambitious spending goals, particularly on health care. Then people noticed something funny in the budget: revenue from a cap and trade program that doesn’t yet exist. Now I’m not sure how hidden this line item was supposed to be, but its clearly not the most transparent move we’ve seen from Obama. Instead of getting into a big public debate about cap and trade, he appears to have opted to show congress the money first, and then let them decide if they’d like to give it away to polluters for free (Remember that Peter Orzag is in Obama’s cabinet. This is the man who was in charge of the CBO when it ruled that free permits would be scored as spending outlays). I wonder what they’ll do (sarc.)

Like almost everything that’s come out of the Obama team in the past year, they appear to be one step ahead of everyone else. While I’m actually pretty apprehensive about the symbolic implications of sneaking climate policy in the backdoor, I’d have to admit that this strategy increases the probability of some form of cap and trade program getting passed in the next two years. And if the carrot’s insufficient to tempt Congress, he’s also promised that the EPA would comply with the Supreme Courts ruling that it must regulate carbon dioxide under the clean air act. This would would probably cost businesses more and raise less money for the federal government.

I’ve been really busy since I got back from Thailand, which is why I haven’t been posting. Now I’ve got a cold and don’t really have the mental energy to come up with anything coherent or insightful. So I figure I’ll take this opportunity to ask CT readers a question, the one in the title.

I’ve been confused about this for a long time and am hoping someone can explain it to me. There’s been a lot of chatter recently about Obama’s apparent attempt to sneak a cap and trade program in through the back door of the budget. However, I’ve heard from multiple sources that the House Dems want a national renewable portfolio standard in place before a carbon cap is implemented.

As far as I know, the reason we want to promote renewable electricity is to reduce our carbon emissions. Since simply enacting an RPS will not guarantee that we reduce emission to the desired level, some sort of carbon price will be necessary anyways. If the RPS is less than or equal to the percentage of renewable electricity generated after carbon policy is in place, then the renewable credit price (REC) will go to zero, and the whole program will have contributed nothing more than red tape.

On the other hand, if the RPS still binds after we cap carbon, it will have the effect of increasing electricity prices without further reducing carbon emissions. Unless the CO2 permit price goes to zero (EIA estimates of L-W were in the $20 range), the emissions cap acts as both a floor and a ceiling on emissions.

So my question is, simply, why do we want an RPS if we know we need to price carbon anyways?